SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition
period from _______ to _______
Commission File Number 0-22618
VENTURE LENDING & LEASING, INC.
(Exact name of registrant as specified in its charter)
Maryland 13-3775187
(State or other jurisdiction of incorporation or (I.R.S. Employer
or organization) Identification No.)
2010 North First Street, Suite 310, San Jose, CA 95131 (Address
of principal executive offices)
(Zip Code)
Registrant's telephone number, including area code: (408) 436-8577
Securities Registered Pursuant to Section 12(b) of the Act: None
Securities Registered Pursuant to Section 12(g) of the Act: Common Stock,
$0.001 par value
Indicate by check mark whether the registrant has (i) filed all reports
required to be filed by Section 13 or 15(d) of the Securities and Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (ii) has been subject to such
filing requirements for the past 90 days: Yes [X] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated be reference in Part II of this Form 10-K or any amendment to this
Form 10-K: ___
As the registrant's shares are not publicly-traded, the aggregate market value
of the voting stock held by non-affiliates of the registrant cannot be
determined.
The number of shares outstanding of each of the issuer's classes of common
stock, as of September 15, 1998 was 48,318.58.
Documents Incorporated by Reference
Document Description 10-K Part
Specifically Identified Portions of the
Registrant's Proxy Statement for the Annual Meeting of III
Shareholders to be held November 11, 1998
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PART I
ITEM 1. BUSINESS.
Introduction.
Venture Lending & Leasing, Inc. ("Fund") is a non-diversified
closed-end management investment company electing status as a "business
development company" ("BDC") under the Investment Company Act of 1940 ("1940
Act") whose investment objective is to achieve a high total return. The Fund
provides asset-based financing to carefully selected venture capital-backed
companies, in the form of secured loans, installment sales contracts or
equipment leases. The Fund generally receives warrants to acquire equity
securities in connection with its portfolio investments. There can be no
assurance that the Fund will attain its investment objective. Westech Investment
Advisors, Inc. ("Westech Advisors") is the Fund's Investment Manager and Siguler
Guff Advisers, L.L.C. ("Siguler Guff Advisers") is its Fund Manager. The
Investment Manager and the Fund Manager are referred to collectively as the
"Managers." The Fund was incorporated in Maryland on September 29, 1993 and
commenced business on July 5, 1994.
The Fund's shares of Common Stock, $.001 par value (`Shares") were sold
to subscribers pursuant to capital calls made through August 8, 1997. Total
committed capital of $46.6 million has been fully funded as of June 30, 1998.
Investment Program.
General. As a BDC, the Fund will invest at least 70% of its total
assets ("qualifying assets") in securities of companies that qualify as
"eligible portfolio companies." An eligible portfolio company generally is a
United States company that is not an investment company and that (i) does not
have a class of securities registered on an exchange or included in the Federal
Reserve Board's over-the-counter margin list; (ii) is actively controlled by a
BDC and has an affiliate of a BDC on its board of directors; or (iii) meets such
other criteria as may be established by the SEC. See "Regulation." The Fund may
invest up to 30% of its total assets in non-qualifying assets, including
companies that are not eligible portfolio companies (for example, because the
company's securities are listed on the National Association of Securities
Dealers' Automated Quotation System) and eligible portfolio companies as to
which the Fund does not offer to make available significant managerial
assistance. The foregoing percentages are determined, in the case of financings
in which the Fund commits to provide financing prior to funding the commitment,
by the amount of the Fund's total assets represented by the value of the maximum
amount of securities to be issued by the borrower or lessee to the Fund pursuant
to such commitment.
Venture Loans and Leases. Venture loans generally consist of a
promissory note secured by the equipment or other assets to be purchased by the
borrower. The Fund generally obtains a security interest in the assets financed
and receives periodic payments of interest and principal, and generally receives
a final payment constituting additional interest at the end of the transaction's
term. Venture leases consist of a lease from the Fund to the lessee of the
assets to be financed, with periodic payments of rent and, in most cases, with a
put option to sell the assets to the borrower at the end of the lease term for a
predetermined or formula price. The interest rate and amortization terms of
venture loans, the rental rate and put provisions of leases and all other
transaction terms are individually negotiated between the Fund and each borrower
or lessee. Because the Fund seeks to qualify as a "regulated investment company"
("RIC") under the Internal Revenue Code of 1986 ("Internal Revenue Code"),
provisions of the Internal Revenue Code restrict the terms upon which
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the Fund may enter into venture leases and the extent to which venture leases
may be used, and the Fund anticipates structuring the majority of its
transactions as venture loans.
Typically, loans or leases are structured as commitments by the Fund to
finance asset acquisitions by the borrower or lessee over a specified period of
time. The commitment of the Fund to finance future asset acquisitions is
typically subject to the absence of any default under the loan or lease and
compliance by the borrower with requirements relating to, among other things,
the type of assets to be acquired. Although the Fund's commitments generally
provide that the Fund is not required to continue to fund additional asset
purchases if there is a material adverse change in the borrower's or lessee's
financial condition, it is possible that a borrower's or lessee's financial
condition will not be as strong at the time the Fund finances an asset
acquisition as it was at the time the commitment was entered into.
Warrants and Equity Securities. The Fund generally acquires warrants to
purchase equity securities of the borrower or lessee in connection with asset
financings. The terms of the warrants, including the expiration date, exercise
price and terms of the equity security for which the warrant may be exercised,
are negotiated individually with each borrower or lessee. Substantially all the
warrants and underlying equity securities are restricted securities under the
1933 Act at the time of issuance; the Fund generally negotiates registration
rights with the borrower or lessee that may provide (i) "piggyback" registration
rights, which permit the Fund under certain circumstances to include some or all
of the securities owned by it in a registration statement filed by the borrower
or lessee or (ii) under rare circumstances, "demand" registration rights
permitting the Fund under certain circumstances to require the borrower or
lessee to register the securities under the 1933 Act (in some cases at the
Fund's expense).
Investment Policies.
For purposes of these investment policies and unless otherwise
specified, references to the percentage of the Fund's total assets "invested" in
securities of a company will be deemed to refer, in the case of financings in
which the Fund commits to provide financing prior to funding the commitment, to
the amount of the Fund's total assets represented by the value of the maximum
amount of securities to be issued by the borrower or lessee to the Fund pursuant
to such commitment; the Fund will not be required to divest securities in its
portfolio or decline to fund an existing commitment because of a subsequent
change in the value of securities the Fund has previously acquired or committed
to purchase.
Diversification Standards. The Fund is classified as a
"non-diversified" closed-end investment company under the 1940 Act. However the
Fund seeks to qualify as a RIC, and therefore must meet diversification
standards under the Internal Revenue Code.
To qualify as a RIC, the Fund must meet the issuer diversification
standards under the Internal Revenue Code that require that, at the close of
each quarter of the Fund's taxable year, (i) not more than 25% of the market
value of its total assets is invested in the securities of a single issuer and
(ii) at least 50% of the market value of its total assets is represented by
cash, cash items, government securities, securities of other RICs and other
securities (with each investment in such other securities limited so that not
more than 5% of the market value of the Fund's total assets is invested in the
securities of a single issuer and the Fund does not own more than 10% of the
outstanding voting securities of a single issuer). For purposes of the
diversification requirements under the Internal Revenue Code, the percentage of
the Fund's total assets "invested" in securities of a company will be deemed to
refer, in the case of financings in which the Fund commits to
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provide financing prior to funding the commitment, to the amount of the Fund's
total assets represented by the value of the securities issued by the borrower
or lessee to the Fund at the time each portion of the commitment is funded.
The Fund will invest no more than 25% of its total assets in securities
of companies in any single industry. The broad industry categories in which the
Fund anticipates that most of its investments will fall (and within each of
which there may be several "industries" for purposes of the industry
diversification policy) include computer and semiconductor-related,
medical/biotechnology and communications.
Investment Guidelines. In selecting investments for the Fund's
portfolio, the Managers endeavor to meet the investment guidelines established
by the Fund's Board of Directors. The Fund may, however, make investments that
do not conform to one or more of these guidelines when deemed appropriate by the
Managers. Such investments might be made if the Managers believe that a failure
to conform in one area is offset by exceptional strength in another or is
compensated for by a higher yield, favorable warrant issuance or other
attractive transaction terms or features.
Leverage. The Fund is permitted to borrow money from and issue debt
securities to banks, insurance companies and other lenders to obtain additional
funds to originate venture loans and leases. Under the 1940 Act, the Fund may
not incur borrowings unless, immediately after the borrowing is incurred, such
borrowings would have "asset coverage" of at least 200 percent. "Asset coverage"
means the ratio which the value of the Fund's total assets, less all liabilities
not represented by the borrowings and any other liabilities constituting "senior
securities" under the 1940 Act, bears to the aggregate amount of such borrowings
and senior securities. The practical effect of this limitation is to limit the
Fund's borrowings and other senior securities to 50% of its total assets less
its liabilities other than the borrowings and other senior securities.
The use of leverage increases investment risk. The Fund's lenders
require that the Fund pledge portfolio assets as collateral for loans. If the
Fund is unable to service the borrowings, the Fund may risk the loss of such
pledged assets. Lenders also require that the Fund agree to loan covenants
limiting the Fund's ability to incur additional debt or otherwise limiting the
Fund's flexibility, and loan agreements may provide for acceleration of the
maturity of the indebtedness if certain financial tests are not met.
Temporary Investments. Pending investment in asset financing
transactions and pending distributions, the Fund invests excess cash in (i)
securities issued or guaranteed by the U.S. government, its agencies or
instrumentalities, (ii) repurchase agreements fully collateralized by U.S.
government securities or (iii) short-term high-quality debt instruments of U.S.
corporations. All such investments will mature in one year or less. The U.S.
government securities in which the Fund may invest include U.S. government
securities backed by the full faith and credit of the U.S. government (such as
Treasury bills, notes and bonds) as well as securities backed only by the credit
of the issuing agency. Corporate securities in which the Fund may invest include
commercial paper, bankers' acceptances and certificates of deposit of domestic
or foreign issuers.
The Fund also may enter into repurchase agreements that are fully
collateralized by U.S. government securities with banks or recognized securities
dealers, in which the Fund purchases a U.S. government security from the
institution and simultaneously agrees to resell it to the seller at an
agreed-upon date and price. The repurchase price is related to an agreed-upon
market rate of interest rather than the coupon of the debt security and, in that
sense, these agreements are analogous to secured loans from the Fund to the
seller. Repurchase agreements carry certain risks
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not associated with direct investments in securities, including possible
declines in the market value of the underlying securities and delays and costs
to the Fund if the other party to the transaction defaults.
Other Investment Policies. The Fund will not sell securities short,
purchase securities on margin (except to the extent the Fund's permitted
borrowings are deemed to constitute margin purchases), write puts or calls,
purchase or sell commodities or commodity contracts or purchase or sell real
estate. The Fund will not underwrite the securities of other companies, except
to the extent the Fund may be deemed an underwriter upon the disposition of
restricted securities acquired in the ordinary course of the Fund's business.
The Fund's investment objective, investment policies and investment
guidelines (other than its status as a BDC) are not fundamental policies and may
be changed by the Fund's Board of Directors at any time without shareholder
approval.
Regulation.
Generally, to be eligible to elect BDC status, a company must engage in
the business of furnishing capital and offering significant managerial
assistance to "eligible portfolio companies," as defined below. More
specifically, in order to qualify as a BDC, a company must (i) be a domestic
company; (ii) have registered as a class of its securities or have filed a
registration statement with the SEC pursuant to Section 12 of the Securities
Exchange Act of 1934; (iii) operate for the purpose of investing in the
securities of certain types of eligible portfolio companies; (iv) offer to
extend significant managerial assistance to such eligible portfolio companies;
(v) have a majority of disinterested directors; and (vi) file (or under certain
circumstances, intend to file) a proper notice of election with the SEC.
"Making available significant managerial assistance" is defined under
the 1940 Act, in relevant part, as (i) an arrangement whereby the business
development company, through its officers, directors, employees or general
partners, offers to provide and, if accepted, does provide, significant guidance
and counsel concerning the management, operations or business objectives of a
portfolio company; or (ii) the exercise by a business development company of a
controlling influence over the management or polices of the portfolio company by
the business development company acting individually or as part of a group
acting together which controls the portfolio company. The officers of the Fund
intend to offer to provide managerial assistance, including advice on equipment
acquisition and financing, cash flow and expense management, general financing
opportunities, acquisition opportunities and opportunities to access the public
securities markets, to the great majority of companies to whom the Fund provides
venture loans or leases. In some instances, officers of the Fund might serve on
the board of directors of borrowers or lessees.
An "eligible portfolio company" generally is a United States company
that is not an investment company and that (i) does not have a class of
securities registered on an exchange or included in the Federal Reserve Board's
over-the-counter margin list; (ii) is actively controlled by a BDC and has an
affiliate of a BDC on its board of directors; or (iii) meets such other criteria
as may be established by the SEC. Control under the 1940 Act is presumed to
exist where a BDC owns more than 25% of the outstanding voting securities of the
eligible portfolio company.
The 1940 Act prohibits or restricts companies subject to the 1940 Act
from investing in certain types of companies, such as brokerage firms, insurance
companies, investment banking firms, and investment companies. Moreover, the
1940 Act limits the type of assets that BDCs may acquire to certain prescribed
qualifying assets and certain assets necessary for its operations (such as
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office furniture, equipment, and facilities) if, at the time of acquisition,
less than 70% of the value of BDC's assets consist of qualifying assets.
Qualifying assets include: (i) privately acquired securities of companies that
were eligible portfolio companies at the time such BDC acquired their
securities; (ii) securities of bankrupt or insolvent companies; (iii) securities
of eligible portfolio companies controlled by a BDC; (iv) securities received in
exchange for or distributed in or with respect to any of the foregoing; and (v)
cash items, government securities and high-quality short-term debt. The 1940 Act
also places restrictions on the nature of transactions in which, and the persons
from whom, securities can be purchased in order for the securities to be
considered qualifying assets. Such restrictions include limiting purchases to
transactions not involving a public offering and the requirement that securities
be acquired directly from either the portfolio company or its officers,
directors or affiliates.
The Fund, as a BDC, may sell its securities at a price that is below
its net asset value per share, provided that a majority of the Fund's
disinterested directors has determined that such sale would be in the best
interests of the Fund and its shareholders and upon the approval by the holders
of a majority of its outstanding voting securities, including a majority of the
voting securities held by non-affiliated persons, of such policy or practice
within one year of such sale. A majority of the disinterested directors also
must determine in good faith, in consultation with the underwriters of the
offering if the offering is underwritten, that the price of the securities being
sold is not less than a price which closely approximates market value of the
securities, less any distribution discounts or commissions. As defined in the
1940 Act, the term "majority of the outstanding voting securities" of the Fund
means the vote of (i) 67% or more of the Fund's Shares present at a meeting, if
the holders of more than 50% of the outstanding Shares are present or
represented by proxy, or (ii) more than 50% of the Fund's outstanding Shares,
whichever is less.
Many of the transactions involving a company and its affiliates (as
well as affiliates of those affiliates) which were prohibited without the prior
approval of the SEC under the 1940 Act prior to its amendment by the 1980
Provisions are permissible for BDCs, including the Fund, upon the prior approval
of a majority of the Fund's disinterested directors and a majority of the
directors having no financial interest in the transactions. However, certain
transactions involving certain persons related to the Fund, including its
directors, officers, and the Managers, may still require the prior approval of
the SEC. In general, (i) any person who owns, controls, or holds power to vote,
more than 5% of the Fund's outstanding Shares (ii) any director, executive
officer, or general partner of that person; and (iii) any person who directly or
indirectly controls, is controlled by, or is under common control with, that
person, must obtain the prior approval of a majority of the Fund's disinterested
directors, and, in some situations, the prior approval of the SEC, before
engaging in certain transactions involving the person or any company controlled
by the Fund. The 1940 Act generally does not restrict transactions between the
Fund and its eligible portfolio companies. While a BDC may change the nature of
its business so as to cease being a BDC (and in connection therewith withdraw
its election to be treated as a BDC) only if authorized to do so by a majority
vote (as defined by the 1940 Act) of its outstanding voting securities,
shareholder approval of changes in other fundamental investment policies of a
BDC is not required (in contrast to the general 1940 Act requirement, which
requires shareholder approval for a change in any fundamental investment
policy).
Dividends and Distributions.
The Fund intends to distribute to shareholders substantially all of its
net investment income and net realized capital gains, if any, as determined for
income tax purposes. Applicable law, including provisions of the 1940 Act, may
limit the amount of dividends and other distributions
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payable by the Fund. Income dividends will generally be paid quarterly to
shareholders of record on the last day of each preceding calendar quarter end.
Substantially all of the Fund's net capital gain (the excess of net long-term
capital gain over net short-term capital loss) and net short-term capital gain,
if any, will be distributed annually with the Fund's final quarterly dividend
distribution for the year.
Until July 5, 1998, the Managers reinvested the proceeds of matured,
repaid or resold investments, net of required distributions to shareholders,
principal payments on borrowings and expenses or other obligations of the Fund,
in new loans or leases. Following that date, the Fund has begun to distribute to
investors all proceeds received from principal payments and sales of
investments, net of reserves and expenses, principal repayments on the Fund's
borrowings, amounts required to fund financing commitments entered into before
such date, and any amounts paid on exercise of warrants. Distributions of such
amounts are likely to cause annual distributions to exceed the earnings and
profits of the Fund available for distribution, in which case such excess will
be considered a tax free return of capital to a shareholder to the extent of the
shareholder's adjusted basis in his shares and then as capital gain. The Fund
may borrow money to fund shareholder distributions, to the extent consistent
with the 1940 Act and a prudent capital structure.
Competition.
Other entities and individuals compete for investments similar to those
proposed to be made by the Fund, some of whom may have greater resources than
the Fund. Furthermore, the Fund's need to comply with provisions of the 1940 Act
pertaining to BDCs and provisions of the Internal Revenue Code pertaining to
RICs might restrict the Fund's flexibility as compared with its competitors. The
need to compete for investment opportunities may make it necessary for the Fund
to offer borrowers or lessees more attractive transaction terms than otherwise
might be the case.
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Employees.
The Fund has no employees; all of its officers are officers and
employees of the Managers, and all of its required services are performed by
officers and employees of the Managers.
ITEM 2. PROPERTIES.
All of the Fund's office space is provided by the Managers.
ITEM 3. LEGAL PROCEEDINGS.
The Fund is not a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Fund's security holders
during the last quarter of the fiscal year ended June 30, 1998.
EXECUTIVE OFFICERS OF THE FUND
The following are the executive officers of the Fund. All officers
serve at the pleasure of the Board.
Name and Position With Fund Age Occupation During Past Five Years
Ronald W. Swenson, Director, 53 President and Director, Westech Investment
Chairman and Chief Executive Advisors since 1994, and President and
Officer Director, Western Technology Investments
since 1980.
Salvador O. Gutierrez, Director, 55 Senior Vice President and Director,
President and Chief Financial Westech Investment Advisors since 1994,
Officer and Senior Vice President, Western
Technology Investment since 1987.
George W. Siguler, 51 Managing Director, Siguler Guff Advisers
Executive Vice & affiliates since 1995;Managing Director
President and Advisory Director of Mitchell Hutchins Institutional
Investors from 1991 to 1995. Director and
President, Associated Capital Advisers,
Inc. (investment management firm) from
1990 to 1991,Vice Chairman and a director
of Monarch Capital Corporation (financial
services holding company) from 1984 to
1991.
Patricia A. Breshears, Vice 62 Vice President,Westech Investment Advisors
President and Secretary since 1994; Administrator and Corporate
Secretary, Western Technology Investment
(venture leasing firm) since 1984.
Donald P. Spencer, Vice 43 Managing Director, Siguler Guff Advisers
President and Assistant and affiliates since 1995; Senior Vice
Secretary President (and other positions), Mitchell
Hutchins Institutional Investors and
affiliates from 1989 to 1995.
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PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS.
The Fund's Common Stock is not listed on any securities exchange, and
all holders of the Fund's Common Stock are subject to agreements significantly
restricting the transferability of their shares.
The approximate number of holders of record of the Fund's Common Stock
at September 15, 1998 was 52.
The Fund has established a policy of declaring dividends on a quarterly
basis, with the most recent dividend being paid on July 30, 1998 to holders of
record on June 30, 1998, in the amount of $109.75 per share. See "Dividends and
Distributions" under Item 1 for a description of the Fund's dividend policies.
ITEM 6. SELECTED FINANCIAL DATA.
The following table summarizes certain financial data and should be
read in conjunction with the "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the financial statements and notes
thereto included elsewhere in this Form 10-K. The selected financial data set
forth below has been derived from the audited financial statements.
For the Year For the Year
Ended Ended
June 30, 1997 June 30, 1998
---------------- -------------
Statement of Operations Data:
Investment Income:
Interest on Loans and Leases .......... $ 7,314,618 $ 12,793,441
Interest on Short - Term investments .. 268,329 381,161
----------- ------------
Total Investment Income .......... 7,582,947 13,174,602
----------- ------------
Expenses:
Management Fee to Managers ............ 1,438,118 2,307,014
Interest Expense ...................... 1,701,039 2,928,409
Other Expenses ........................ 341,791 564,975
Total Expenses ................. 3,480,948 5,800,398
----------- ------------
Net Investment Income .......................... 4,101,999 7,374,204
----------- ------------
Net Unrealized Gain From Investment Transactions 865,498 (41,374)
Net Realized Gain From Investment Transactions . 1,463,670 4,993,372
Net Income ..................................... 6,431,167 12,326,202
========== ============
Net Income Per Share: .......................... $ 212 $ 260
========== ============
Average Shares Outstanding ..................... 30,304 47,354
========== ============
Balance Sheet Data: As of June 30, 1997 As of June 30, 1998
--------- -------------------
Total Assets $71,848,759 $88,489,083
Bank Loans $30,000,000 $36,114,059
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Results of Operations -- Years Ended June 30, 1998 and 1997
Total investment income for the years ended June 30, 1998 and 1997 was
$13.2 million and $7.6 million, respectively, of which $12.8 million and $7.3
million, respectively, consisted of interest on venture loans outstanding.
Remaining income consisted of interest on the temporary investment of cash,
pending investment in venture loans and leases, distributions to shareholders or
application to the Fund's expenses. The increase in investment income reflects
the increase in capital called from investors from approximately $37.5 million
as of June 30, 1997 to approximately $46.6 million as of June 30, 1998, and the
investment of that capital (together with amounts derived from bank borrowings)
in venture loans and leases.
Expenses for the years ended June 30, 1998 and 1997 were $5.8 million
and $3.5 million, respectively, resulting in net income of $12.3 million and
$6.4 million respectively. Net income for the year ended June 30, 1998 includes
a decrease in unrealized gain of $0.04 million and a realized gain of $5.0
million. The net decrease in unrealized gain for the period consists of $1.46
million of appreciation of the Fund's publicly traded stocks and warrants that
were received in connection with loan and lease transactions, less a $1.50
million write-down of the loan portfolio. Warrants with readily ascertainable
market values are assigned a fair value based on the difference, if any, between
the exercise price of the warrant and the fair value of the equity securities
for which the warrant may be exercised, adjusted for illiquidity. On a per share
basis, for the years ended June 30, 1998 and 1997 net income was $260 and $212
respectively.
There were several factors that contributed to the increase in net
income for the year ended June 30, 1998 over the prior year. As of June 30,
1998, total assets invested in venture loans increased as a percentage of
committed capital to 190% from 154% as of June 30, 1997, reflecting the
investment of capital called and additional borrowed funds, and cash balances as
a percentage of total assets were significantly reduced compared with the
corresponding year. The most significant factor effecting net income for the
year ended June 30, 1998 was the realized gain from investment transactions of
$5.0 million. Also impacting net income was interest expense on the Fund's
borrowings during the year ended June 30, 1998, at $2.9 million.
The Fund's policy is to place a loan on nonaccrual status when either
principal or interest has become past due for 90 days or more. When a loan is
placed on nonaccrual status, all interest previously accrued but not collected
is reversed. As of June 30, 1998 and 1997, the Fund had loan balances
outstanding of $2.6 million and $3.6 million to borrowers that were carried on a
nonaccrual basis. Foregone interest income on nonaccrual loans for the years
ended June 30, 1998 and 1997, was $280,000 and $298,000 respectively. Management
fee and interest expense declined as a percentage of investment income for the
year ended June 30, 1998 from the year ended June 30, 1997.
Liquidity and Capital Resources -- June 30, 1998 and June 30, 1997
Total capital committed to the purchase of Shares pursuant to
subscription agreements was approximately $46.6 million at June 30, 1998 and
1997. As of June 30, 1998 and 1997, 100% and 80%, respectively, of this
committed capital was called to fund investments in venture loans and leases and
to meet the Fund's expenses.
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The Fund has in place a $45 million securitized debt facility to
finance the acquisition of asset-based loans and leases. The principal balance
is a 39-month term loan. Additional amounts can be drawn on the credit facility
by a minimum of $5 million and in $1 million increments in excess thereof. As of
June 30, 1998, $34.1 million was outstanding under this facility, compared with
$30.0 million as of June 30, 1997. Additionally, the Fund has a $15 million
warehouse line of credit with $1.7 million outstanding on June 30, 1998. The
Fund enters into interest rate swap transactions to hedge its interest rate on
the debt facility. At June 30, 1998, the Fund had interest rate swap
transactions outstanding with a total notional principal amount of $44.7
million. The effect of these swap transactions is to convert the variable LIBOR
rate into a fixed rate on the contract notional value. The amortization schedule
for each borrowing under the facility is expected to correspond to the
amortization of the loans or leases acquired with the proceeds of each
borrowing.
As of June 30, 1998, 3% of the Fund's assets consisted of cash and cash
equivalents, compared with 5% as of June 30, 1997. The Fund continued to invest
its assets in venture loans and leases during the year. Amounts disbursed under
the Fund's loan commitments increased by approximately $43.8 million during the
year ended June 30, 1998, and net loan amounts outstanding after amortization
increased approximately $16.9 million. Unfunded commitments decreased by
approximately $19.7 million.
================================================================================
Year Ending Amount Disbursed Principal Balance Unfunded
Amortization Commitments
Outstanding
================================================================================
June 30, 1998 $133.9 million $52.5 million $81.4 million $49.0 million
================================================================================
June 30, 1997 $90.1 million $25.6 million $64.5 million $68.7 million
================================================================================
Because venture loans and leases are privately negotiated transactions,
investments in these assets are relatively illiquid.
The Fund seeks to meet the requirements to qualify for the special
pass-through status available to "regulated investment companies" ("RICs") under
the Internal Revenue Code, and thus to be relieved of federal income tax on that
part of its net investment income and realized capital gains that it distributes
to shareholders. To qualify as a RIC, the Fund must distribute to its
shareholders for each taxable year at least 90% of its investment company
taxable income (consisting generally of net investment income and net short-term
capital gain) ("Distribution Requirement"). To the extent that the terms of the
Fund's venture loans provide for the receipt by the Fund of additional interest
at the end of the loan term or the terms of venture leases provide for the
receipt by the Fund of a purchase price for the asset at the end of the lease
term ("residual income"), the Fund would be required to accrue such residual
income over the life of the loan or lease, and to include such accrued income in
its gross income for each taxable year even if it receives no portion of such
residual income in that year. Thus, in order to meet the Distribution
Requirement and avoid payment of income taxes or an excise tax on undistributed
income, the Fund may be required in a particular year to distribute as a
dividend an amount in excess of the total amount of income it actually receives.
Those distributions will be made from the Fund's cash assets, from amounts
received through amortization of loans or leases or from borrowed funds.
11
<PAGE>
Year 2000 Issue
The Fund utilizes software and related information technologies that
will be affected by the date change in the year 2000. The year 2000 issue exists
because many computer systems and applications currently use two-digit date
fields to designate a year. When the century date change occurs, certain
date-sensitive systems may recognize the year 2000 as 1900, or not at all. This
inability to recognize or properly treat the year 2000 may result in a systems
failure or cause systems to process critical financial and operational
information incorrectly. Additionally, many of the Fund's customers and service
providers use software and information technology that could also be affected by
the date change.
Based on ongoing assessments and testing, the Fund believes that there
is no material risk of business interruption as a result of computer errors or
inefficiencies. The Fund is also working with its vendors and customers to
obtain reasonable assurances that they are taking comparable steps with respect
to their year 2000 exposures. However, the steps the Fund is taking and intends
to take do not guarantee complete success or eliminate the possibility that the
Fund will not be adversely affected by the matters related to the year 2000.
12
<PAGE>
This information has been derived from unaudited financial statements
that, in the opinion of management, include all normal recurring adjustments
necessary for a fair presentation of such information. The operating results for
any quarter are not necessarily indicative of results for any future period.
Quarterly Results - June 30, 1998 (Unaudited)
Three Months Ended
Sep 30, Dec 31, Mar 31, June 30,
1997 1997 1998 1998
---------- ----------- ----------- ---------
Investment Income:
Interest on Loans and Leases $ 2,746,914 $ 3,227,374 $ 3,395,265 $ 3,423,889
Interest on Short
-Term Investments 74,993 129,705 97,869 78,594
---------- ----------- ----------- ---------
Total Investment Income 2,821,907 3,357,079 3,493,134 3,502,483
---------- ----------- ----------- ---------
Expenses:
Management Fee to the Managers 562,442 605,146 578,605 558,821
Interest Expense ................768,158 832,015 694,774 633,462
Other Expense .................. 87,353 88,728 204,753 186,140
---------- ----------- ----------- ---------
Total Expenses ......... 1,417,953 1,525,889 1,478,132 1,378,423
---------- ----------- ----------- ---------
Net Investment Income ....... $ 1,403,954 $ 1,831,190 $ 2,015,002 $ 2,124,060
Net Unrealized Gain From Investment
Transactions .................. 463,438 (1,331,406) 908,301 (81,707)
Net Realized Gain From Investment
Transactions .................. 1,237,920 1,147,559 1,822,117 785,776
---------- ----------- ----------- ---------
Net Income ...................$ 3,105,312 $ 1,647,343 $ 4,745,420 $ 2,828,129
=========== =========== =========== ===========
Net Income Per Share ....... $ 70 $ 34 $ 98 $ 59
=========== =========== =========== ===========
Average Shares Outstanding .. 44,492 48,319 48,319 48,319
========== =========== =========== ============
Quarterly Results - June 30, 1997 (Unaudited)
Three Months Ended
Sep 30, Dec 31, Mar 31, June 30,
1996 1996 1997 1997
---------- ----------- ----------- ---------
Investment Income:
Interest on Loans and Leases $ 1,335,293 $ 1,950,430 $ 1,831,754 $ 2,197,141
Interest on Short ......... 69,105 68,777 37,039 93,408
-Term Investments ---------- ----------- ----------- ---------
Total Investment Income ...... 1,404,398 2,019,207 1,868,793 2,290,549
---------- ----------- ----------- ---------
Expenses:
Management Fee to the Managers 285,815 306,164 400,582 445,557
Interest Expense ............. 316,890 326,540 410,738 645,829
Other Expense ................ 149,011 86,145 87,540 120,134
---------- ----------- ----------- ---------
Total Expenses ............ 751,716 718,849 898,860 1,211,520
--------- ----------- ----------- ---------
Net Investment Income ........$ 652,682 $ 1,300,358 $ 969,933 $ 1,079,029
Net Unrealized Gain From Investment
Transactions ............... 1,677,476 186,380 (638,175) (260,183)
Net Realized Gain From Investment
Transactions ............. -- -- 958,497 505,171
---------- ----------- ----------- ---------
Net Income ................. $ 2,330,158 $ 1,486,738 $ 1,290,255 $ 1,324,017
=========== =========== =========== =======
Net Income Per Share ....... $ 94 $ 50 $ 43 $ 36
=========== =========== =========== =======
Average Shares Outstanding . 24,707 29,823 29,823 36,721
=========== =========== =========== =======
13
<PAGE>
VENTURE LENDING & LEASING, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE YEARS ENDED JUNE 30, 1998 AND 1997
ITEM 8
FINANCIAL STATEMENTS
14
<PAGE>
INDEX TO FINANCIAL STATEMENTS
Financial Statements Included in Item 8:
See Item 14(a)
15
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of
Venture Lending & Leasing, Inc.:
We have audited the accompanying statements of financial position of Venture
Lending & Leasing, Inc. (a Maryland corporation) as of June 30, 1998 and 1997,
and the related statements of operations, changes in shareholders' equity and
cash flows for the years then ended. These financial statements are the
responsibility of the Fund's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Venture Lending & Leasing, Inc.
as of June 30, 1998 and 1997, and the results of its operations and its cash
flows for the years then ended in conformity with generally accepted accounting
principles.
Arthur Andersen LLP
San Francisco, California,
August 13, 1998
16
<PAGE>
VENTURE LENDING & LEASING, INC.
STATEMENTS OF FINANCIAL POSITION
AS OF JUNE 30, 1998 AND 1997
1998 1997
-------------- -----------
ASSETS
Loans and leases, at estimated fair value
(cost of $81,421,224 and $64,465,197,
respectively) ............................. .... $ 79,821,224 $ 64,365,197
Investments in warrants, at estimated
fair value (cost of $1,208,550 and
$1,077,257, respectively) ...................... 1,289,713 2,282,242
Investments in stocks, at estimated
fair value (cost of $650,263 and $103,429,
respectively) ............................... 4,276,393 1,171,957
Cash and cash equivalents ....................... 2,301,753 3,946,955
Past-due loan receivables ....................... 584,577 3,174
Other assets .................................... 215,423 79,234
============ ============
Total assets .................... $ 88,489,083 $ 71,848,759
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Bank loans ..................................... $ 36,114,059 $ 30,000,000
Management fees payable ........................ 560,821 445,557
Accounts payable and other
accrued liabilities ........................... 750,953 947,650
------------ ------------
Total liabilities ................. 37,425,833 31,393,207
----------- ------------
Shareholders' equity:
Common stock, $.001 par value:
Authorized--100,000,000 shares
Issued and outstanding--
48,318.58 shares and 39,054.38 shares
as of June 30, 1998 and 1997, respectively ....... 49 40
Capital in excess of par value .................... 46,641,051 37,317,282
Distributions ....................................(16,871,073) (5,828,791)
Accumulated earnings ............................. 21,293,223 8,967,021
------------ ------------
Total shareholders' equity ........ 51,063,250 40,455,552
------------ ------------
Total liabilities and
shareholders' equity ......... $ 88,489,083 $ 71,848,759
============ ============
The accompanying notes are an integral part of these statements.
17
<PAGE>
VENTURE LENDING & LEASING, INC.
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED JUNE 30, 1998 AND 1997
1998 1997
---------------- --------------
INVESTMENT INCOME:
Interest on loans and leases ................. $ 12,793,441 $ 7,314,618
Interest on short-term investments ........... 381,161 268,329
------------ ------------
Total investment income ......... 13,174,602 7,582,947
------------ ------------
EXPENSES:
Management fees to the Managers .............. 2,307,014 1,438,118
Interest expense ............................. 2,928,409 1,701,039
Professional fees ............................ 189,559 139,903
Bank loan facility fee ....................... 239,967 68,535
Other operating expenses ..................... 134,649 133,353
------------ ------------
Total expenses .................. 5,799,598 3,480,948
------------ ------------
Net investment income ........... 7,375,004 4,101,999
NET CHANGE IN UNREALIZED GAIN
FROM INVESTMENT TRANSACTIONS (41,374) 865,498
NET REALIZED GAIN FROM
INVESTMENT TRANSACTIONS ......................... 4,993,372 1,463,670
------------ ------------
Net income before provision
for income taxes 12,327,002 6,431,167
PROVISION FOR INCOME TAXES ....................... 800 0
------------ ------------
Net income ....................... $ 12,326,202 $ 6,431,167
============ ============
BASIC EARNINGS PER SHARE ......................... $ 260.30 $ 212.22
============ ============
WEIGHTED AVERAGE SHARES OUTSTANDING .............. 47,354 30,304
============ ============
The accompanying notes are an integral part of these statements.
18
<PAGE>
VENTURE LENDING & LEASING, INC.
STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED JUNE 30, 1998 AND 1997
Capital in Retained
Common Stock Excess of Earnings
Shares Amount Par Value Distributions (Deficit) Total
-------------------------------------------------------------------
BALANCE,
JUNE 30, 1996 20,594.7 $20 $18,669,745$(1,262,256)$2,535,854 $19,943,363
Shares sold . 18,459.6 20 18,647,537 0 0 18,647,557
Distributions 0 0 0 (4,566,535) 0 (4,566,535)
Net income .. 0 0 0 0 6,431,167 6,431,167
-------- ---- ----------- ----------- ---------- -----------
BALANCE,
JUNE 30, 1997 39,054.3 40 37,317,282 (5,828,791) 8,967,021 40,455,552
Shares sold . 9,264.2 9 9,323,769 0 0 9,323,778
Distributions 0 0 0 (11,042,282) 0 (11,042,282)
Net income .. 0 0 0 0 12,326,202 12,326,202
======== ==== =========== =========== ========== ===========
BALANCE,
JUNE 30, 1998 48,318.5 $49 $46,641,051$(16,871,073)$21,293,223$51,063,250
======== ==== =========== =========== ========== ===========
The accompanying notes are an integral part of these statements.
19
<PAGE>
VENTURE LENDING & LEASING, INC.
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED JUNE 30, 1998 AND 1997
1998 1997
------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ..................................... $ 12,326,202 $ 6,431,167
Adjustments to reconcile net income
to net cash provided by
operating activities:
Amortization of organizational expenses .......... 29,910 30,001
Amortization of bank loan expenses ............... 49,922 8,716
Gain on sale of securities .......................4,993,372) (1,463,670)
Increase in unrealized loss (gain)
from investment transactions....................... 41,374 (865,498)
Decrease (increase) in past-due
loan receivables ................................ (581,404) 13,371
Increase in other assets ......................... (15,805) (2,147)
Increase in management fees payable .............. 115,264 154,981
Increase (decrease) in accounts payable
and other accrued liabilities...................... (196,697) 714,702
------------ ----------
Net cash provided by operating activities 6,775,394 5,021,623
---------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of loans and leases ................(43,843,579) (53,222,857)
Principal payments on loans and leases ......... 24,756,145 13,284,392
Proceeds from prepayment of loan ............... 2,131,408 4,089,895
Acquisition of warrants ........................ (460,008) (716,000)
Proceeds from sale of securities ............... 4,799,884 1,463,670
----------- ------------
Net cash used in investing activities ... (12,616,150) (35,100,900)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sales of common stock, net .................. 9,323,778 18,647,557
Distributions to shareholders ............... (11,042,283) (4,566,535)
Loan from bank .............................. 15,000,000 17,791,402
Repayment of bank loan and expenses ......... (8,885,941) (2,529,863)
Payment for bank loan expenses .............. (200,000) 0
------------ ------------
Net cash provided by financing activities 4,195,554 29,342,561
------------ ------------
Net decrease in cash and cash equivalents (1,645,202) (736,716)
CASH AND CASH EQUIVALENTS:
Beginning of year ........................... 3,946,955 4,683,671
------------ ------------
End of year ................................. $ 2,301,753 $ 3,946,955
============ ============
CASH PAID DURING THE YEAR FOR:
Taxes ....................................... $ 800 $ 0
Interest .................................... 3,205,161 1,305,058
The accompanying notes are an integral part of these statements.
20
<PAGE>
VENTURE LENDING & LEASING, INC.
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1998
1. ORGANIZATION AND OPERATIONS OF THE COMPANY:
Venture Lending & Leasing, Inc. (the Fund) was incorporated in Maryland on
September 29, 1993, as a nondiversified, closed-end management investment
company electing status as a business development company under the Investment
Company Act of 1940. The purpose of the Fund is to provide asset-based financing
to venture-capital-backed companies in the form of secured loans, installment
sales contracts or equipment leases. Prior to commencing its operations on July
5, 1994, the Fund had no operations other than the sale to Mitchell Hutchins
Institutional Investors, Inc. (Mitchell Hutchins), which is an indirect wholly
owned subsidiary of PaineWebber Group Inc., of 1 share of common stock, $.001
par value, for $1,000. As of June 30, 1998, the Fund meets the requirements,
including diversification requirements, to qualify as a regulated investment
company (RIC) under the Internal Revenue Code of 1986.
Costs incurred in connection with the organization of the Fund were paid
initially by Mitchell Hutchins and Westech Investment Advisors, Inc. (Westech
Advisors) (collectively, the Managers); however, the Fund reimbursed the
Managers $150,000 of such costs. This amount has been deferred and is being
amortized using the straight-line method over a period of 60 months from the
date the Fund commenced operations. During fiscal 1996, the management contract
of the Fund was assigned from Mitchell Hutchins to Siguler Guff Advisers, L.L.C.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Basis of Accounting
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts and revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Valuation of Investments
The Fund anticipates that substantially all of its portfolio investments (other
than short-term investments) will consist of securities that at the time of
acquisition are subject to restrictions on sale and for which no ready market
will exist. Venture loans and leases are privately negotiated transactions, and
there is no established trading market in which such loans or leases can be
sold. Substantially all of the Fund's investments are restricted securities that
cannot be sold publicly without prior agreement with the issuer to register the
securities under the 1933 Act, or by selling the securities under Rule 144 or
other rules under the 1933 Act, which permit only limited sales under specified
conditions.
21
<PAGE>
Investments in loans and leases are valued at their original purchase price less
amortization of principal unless, pursuant to procedures established by the
Fund's Board of Directors, the Fund's Managers determine that amortized cost
does not represent fair value. Short-term debt instruments with 60 days or less
remaining to maturity are valued by the amortized cost method. The Fund does not
hold any short-term debt instruments that have a period of maturity exceeding 60
days.
Warrants that are received in connection with loan and lease transactions
generally will be assigned a minimal value at the time of acquisition, which
occurs at the first drawdown under the commitment. Thereafter, warrants with
readily ascertainable market values will be assigned a fair value based on the
difference, if any, between the exercise price of the warrant and the fair value
of the equity securities for which the warrant may be exercised, adjusted for
illiquidity.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash on hand, demand deposits in banks and
repurchase agreements with original maturities of 90 days or less.
Loans and Leases
Unearned income and commitment fees on loans and leases are recognized using the
effective interest method over the term of the loan or lease. Commitment fees
represent fees received for commitments upon which no drawdowns have yet been
made. When the first draw is made, the fee is included in unearned income and
recognized as described above.
The Fund's policy is to place a loan on nonaccrual status when either principal
or interest has become past due for 90 days or more. When a loan is placed on
nonaccrual status, all interest previously accrued but not collected is
reversed.
Loans classified as nonaccrual amounted to approximately $2,593,552 and
$3,602,098 at June 30, 1998 and 1997, respectively. If interest on these loans
had been accrued, such income would have been approximately $280,436 and
$298,141 in 1998 and 1997, respectively.
Interest Rate Swaps
The Fund enters into interest rate swap transactions to manage interest rate
exposures on its debt. Net interest receivable or payable on the swap
transactions is included in interest expense. Gains or losses that result from
the early termination of swap agreements are deferred and amortized over the
remaining term of the associated debt as additional interest expense. Interest
rate swaps that do not qualify as hedges are marked-to-market.
Tax Status
As long as the Fund qualifies as a RIC, it will not pay any federal or state
corporate income tax on income that is distributed to shareholders (pass-through
status). Should the Fund lose its qualification as a RIC, it could be taxed as
an ordinary corporation on its taxable income for that year (even if that income
is distributed to its shareholders), and all distributions out of its earnings
and profits will be taxable to shareholders as ordinary income.
22
<PAGE>
3. SUMMARY OF INVESTMENTS:
Loans and leases generally are made to borrowers pursuant to commitments whereby
the Fund commits to finance assets up to a specified amount for the term of the
commitments, upon the terms and subject to the conditions specified by such
commitment. The Fund's investments in loans and leases are entirely within the
United States and are diversified among the following industries. The percentage
of net assets that each industry group represents is shown with the industry
totals:
Outstanding
Borrower 6/30/98
- ---------------------------------------------------------- -------------
Biotechnology:
Biosys, Inc. $1,411,463
Desmos, Inc. 148,190
Advanced Therapies, Inc. 384,033
Gene Logic, Inc. 843,866
Idec Pharmaceuticals Corporation 1,166,235
Regen Biologics, Inc. 968,762
Telek, Inc. 944,835
-------------
Total biotechnology (11.5%) 5,867,384
-------------
Communications:
Brocade Communications, Inc. 1,549,444
Cabletron Systems, Inc. 282,835
Digital Generation Systems, Inc. 4,425,920
Exodus Communications, Inc. 3,668,677
Fabrik Communications, Inc. 2,319,513
Fiberlane Communications, Inc. 4,559,687
Jetstream Communications, Inc. 1,031,864
Juniper Networks, Inc. 2,203,586
Optimal Networks Corporation 377,341
Optivision, Inc. 1,634,357
Silicon Wireless, Inc. 1,557,972
Socket Communications, Inc. 74,690
Aunet Corporation 478,702
-------------
Total communications (47.3%) 24,164,588
-------------
Computers and peripherals:
Das Devices, Inc. 4,284,193
Headway Technologies, Inc. 5,545,724
Aptix Corporation 729,478
Neomagic Corporation 475,299
Netpower, Inc. 355,785
SVision, Inc. 740,062
-------------
Total computers and peripherals (23.8%) 12,130,541
-------------
Internet:
Active Software, Inc. 257,984
Adforce, Inc. 1,715,576
Infoseek Corporation 508,281
Intermedia Communications 537,127
Inverse Network Technology 305,603
Keynote Systems Incorporated 376,683
Netratings, Inc. 79,260
Big Book, Inc. 703,428
Wallop Software, Inc. 1,304,163
-------------
Total Internet (11.3%) 5,788,105
-------------
23
<PAGE>
Medical devices:
Ciphergen Biosystems $ 359,013
Emed 173,531
Encelle, Inc. 320,116
Heartstent Corporation 103,578
Integ Incorporated 4,185,690
Aerogen, Inc. 350,903
Intratherapeutics, Inc. 818,637
Myelotec, Inc. 202,361
Oratec Interventions, Inc. 289,364
Spinal Concepts, Inc. 41,234
Survivalink Corporation 538,640
Vidamed, Inc. 147,745
-------------
Total medical devices (14.7%) 7,530,812
-------------
Other:
Larex, Inc. 1,549,010
Topometrix Corporation 1,704,084
Uniax Corporation 1,204,811
-------------
Total other (8.7%) 4,457,905
-------------
Semiconductors and equipment:
Abpac, Inc. 633,096
Apache, Inc. 108,677
Dynachip Corporation 1,256,469
Equator Technologies, Inc. 2,286,757
Icompression, Inc. 99,135
I-Cube, Inc. 966,331
Lightwave Microsystems Corporation 690,103
Poseidon Technology, Inc. 293,336
Quantum3D, Inc. 125,768
Sirf Technology 523,092
Telecruz Technology, Inc. 511,728
Tessera, Inc. 216,177
Transmeta Corporation 2,702,780
O-In Design Automation 311,150
ZSP Corporation 1,116,382
-------------
Total semiconductors and equipment (23.2%) 11,840,981
-------------
Software:
APT Productions, Inc. 442,271
Calico Technology, Inc. 579,599
Commerce One, Inc. 332,683
Comps Infosystems, Inc. 1,459,068
Datamind Corporation 549,091
Ipsilon Network, Inc. 429,730
Persistence Software, Inc. 273,040
Perspecta, Inc. 281,949
Release Software Corporation 406,601
Relevance Technologies, Inc. 285,762
Solopoint, Inc. 109,381
Starlight Networks, Inc. 3,257,642
Sunburst Communications 258,192
Wink Communications, Inc. 938,113
Xatrix Entertainment, Inc. 37,786
-------------
Total software (18.9%) 9,640,908
-------------
Total $81,421,224
=============
24
<PAGE>
The Fund provides asset-based financing primarily to start-up and emerging
growth venture-capital-backed companies. As a result, the Fund is subject to
general credit risk associated with such companies. At June 30, 1998, the Fund
has unfunded commitments to borrowers of $49,028,904.
The Fund's investments in warrants are entirely within the United States and are
diversified among the following industry groups. The percentage of net assets
that each industry group represents is shown with the industry totals:
Industry Percentage of
Warrant Value Net Assets
- -------------------------------------------- ------------------ ----------------
Biotechnology $ 158,163 0.3%
Communications 311,500 0.6
Computer and peripherals 141,000 0.3
Internet 76,950 0.2
Medical devices 150,300 0.3
Semiconductor 222,600 0.4
Software 164,200 0.3
Other 65,000 0.1
================== ================
Total warrants $1,289,713 2.5%
================== ================
The Fund's investments in stock are entirely within the United States and are
diversified among the following industries. The percentage of net assets that
each industry group represents is shown with the industry totals:
Industry Percentage of
Shares Value Net Assets
- -------------------------------------------------------- ----------- -----------
Communications:
Cabletron Systems, Inc. ................ 77,671 $ 835,119
Exodus Communications .................. 106,084 3,164,855
---------- ---------
Total communications .......... 183,755 3,999,974 7.8%
---------- ---------
Computers and peripherals:
Das Devices, Inc. ...................... 347,223 72,327
JTS Corporation ........................ 346,432 45,000
Neomagic Corporation ................... 12,830 159,092
---------- ---------
Total computers and peripherals 706,485 276,419 0.5%
---------- ---------
Total common stock ............ 890,240 $4,276,393
========== =========
25
<PAGE>
4. WARRANTS AND STOCK:
At June 30, 1998, the Fund held 5,939,256 warrants to purchase shares of common
and preferred stock in 76 companies, of which 7 companies are publicly traded.
The following is a summary of the activity for investments in warrants and
investments in stocks for the year ended June 30, 1998:
Investments in warrants:
Balance, June 30, 1997 $ 2,282,242
Acquisition of warrants 220,865
Conversion of warrants to stock (89,572)
Net change in unrealized gain (1,123,822)
----------------
================
Balance, June 30, 1998 $ 1,289,713
================
================
Investments in stocks:
Balance, June 30, 1997 $ 1,171,957
Conversion of warrants to stock 1,028,736
Stock shares granted 72,327
Stock sold (554,231)
Net change in unrealized gain 2,557,604
----------------
Balance, June 30, 1998 $ 4,276,393
================
Restricted equity securities for which a public market exists are valued with
reference to the market price for unrestricted equity securities of the same
issuers, taking into consideration various factors as applicable, including the
nature of the market in which the securities are traded, the amount of the
public float, the existence and terms of any registration rights, the proportion
of the issuer's securities held by the Fund, the price at which the securities
in question were acquired relative to the market price for unrestricted
securities at the time of issuance, changes in the issuer's financial conditions
or prospects, and other factors that may affect their fair value. Restricted
securities for which an established market exists are valued at a discount from
their value determined by the foregoing methods, with the amount of the discount
decreasing as the restriction period decreases.
The remainder of the warrants issued by private companies did not have a readily
ascertainable market value and were assigned a minimal value at the time of
acquisition. These warrants had a value of $1,034,550 at June 30, 1998.
At June 30, 1998, the Fund held 543,017 shares of common stock of companies,
which were received when the Fund exercised its warrants in the companies, which
had a cost basis of $577,936. The quoted market value of the stock, adjusted for
illiquidity, was $4,159,067. In addition, the Fund also held 347,223 shares of
stock in a private company, which had a value of $72,327 at June 30, 1998.
During the year, the Fund realized a gain of $4,227,112 on the sale of 195,710
shares of common stock, which had a cost basis of $572,771.
26
<PAGE>
5. LONG-TERM DEBT FACILITY:
The Fund has in place a $45 million securitization debt facility to finance the
acquisition of asset-based loans and leases. The principal balance is a 39-month
term loan. Additional amounts can be drawn on the credit facility by a minimum
of $5 million and in $1 million increments in excess thereof. At June 30, 1998,
there was $34.4 million outstanding under this facility. The interest rate on
the facility is LIBOR plus .50 percent, which at June 30, 1998, was 6.1563
percent.
Borrowings under the facility are collateralized by the equipment financed by
the Fund under loans and leases with assignment to the financial institution,
plus other assets of the Fund. The amortization schedule for each borrowing
under the facility is expected to correspond to the amortization of the loans
and leases acquired with the proceeds of each borrowing. The Fund pays a
commitment fee of 0.25 percent annually based on the average daily unused
portion of the commitment with respect to this facility.
Expenses of $200,000 were incurred in connection with procuring the facility.
These expenses have been capitalized and are being amortized over the period of
the term loan.
Additionally, the Fund has a $15 million warehouse line of credit with $1.7
million outstanding on June 30, 1998. The interest rate on the warehouse line is
LIBOR plus 1.15 percent, which at June 30, 1998, was 6.8063 percent.
The required aggregate debt principal payments for the next five years and
thereafter are as follows:
Year Principal Payments
- ------------------ -----------------------
1999 $ 15,981,904
- ------------------ -----------------------
2000 13,128,604
- ------------------ -----------------------
2001 7,003,551
- ------------------ =======================
$ 36,114,059
=======================
6. INTEREST RATE SWAPS:
The Fund enters into interest rate swap transactions to hedge its interest rate
on the debt facility. The net interest received or paid on the transactions is
included in interest expense.
At June 30, 1998, the Fund had interest swap transactions outstanding with a
total notional principal amount of $44.7 million to convert floating rate
liabilities to fixed rates as follows:
Notional amount of $31.5 million whereby the Fund pays a fixed
interest rate of 6.20 percent, while the financial institution pays
the floating 90-day LIBOR rate. Payments are made monthly and
terminate on February 25, 2001.
Notional amount of $3.2 million whereby the Fund pays a fixed
interest rate of 6.20 percent, while the financial institution pays
the floating 90-day LIBOR rate. Payments are made monthly and
terminate on February 25, 2001.
27
<PAGE>
Notional amount of $10 million whereby the Fund pays a fixed
interest rate of 7.025 percent, while the financial institution pays
the floating 90-day LIBOR rate. Payments are made quarterly and
terminate on December 31, 2001.
At June 30, 1998, the fair market value of these swap transactions in excess of
that which qualifies as a hedge resulted in an unrealized loss position of
$383,000, based upon market quotes. The fair value of interest swaps is the
estimated amount that the Company would pay to terminate the swap transactions
at June 30, 1998, taking into account interest rates at that date.
The Fund is exposed to credit loss in the event of nonperformance by the
counterparties to the interest swap transactions; however, these counterparties
are creditworthy financial institutions, and the Fund does not anticipate
nonperformance. The amount of such credit loss is generally limited to the fair
market value on the swap agreements, if any.
7. CAPITAL STOCK:
There are 100,000,000 shares of $.001 par value common stock authorized. As of
June 30, 1998, 43,318.58 shares are issued and outstanding.
The Fund has subscription agreements in effect with its shareholders under which
shareholders will purchase shares of the Fund, up to their full committed
capital amount, upon capital calls delivered at least 15 days before payment is
due. As of June 30, 1998, all capital commitments have been received.
8. EARNINGS PER SHARE:
The Fund adopted Statement of Financial Accounting Standards (SFAS) No. 128,
"Earnings per Share," effective December 31, 1997. SFAS No. 128 replaces primary
and fully diluted earnings per share with basic and diluted earnings per share
calculations. Basic earnings per share are computed by dividing net income, less
dividends on preferred stock, by the weighted average common shares outstanding.
Diluted earnings per share are computed by dividing net income, less dividends
on preferred stock, by the weighted average common shares outstanding, including
the dilutive effects of potential common shares (e.g., stock options). The Fund
has no preferred stock or instruments that would be potential common shares;
thus, reported basic and diluted earnings are the same.
9. MANAGEMENT:
Westech Advisors serves as the Fund's investment manager, and Siguler Guff
Advisers, L.L.C. serves as its fund manager. As compensation for their services
to the Fund, the Managers receive a management fee computed and paid at the end
of each quarter at an annual rate of 2.5 percent of the Fund's total assets
(including amounts derived from borrowed funds) as of the last day of each
fiscal quarter thereafter. Fees of $2,307,014 and $1,438,118 were recognized for
the years ended June 30, 1998 and 1997, respectively.
The Managers will also receive an aggregate annual incentive fee equal to 20
percent of all amounts available for distribution to investors after investors
have received cash distributions equal to 100 percent of all amounts paid for
the purchase of shares plus a preferred return calculated at a cumulative
noncompounded annual rate of 8 percent. To date, the Managers have earned no
incentive fee.
28
<PAGE>
Certain officers and directors of the Fund also serve as officers and directors
of Westech Advisors and Siguler Guff Advisers, LLC.
10. FUTURE FINANCIAL ACCOUNTING STANDARDS:
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No.
133 establishes accounting and reporting standards requiring that every
derivative instrument (including certain derivative instruments embedded in
other contracts) be recorded in the balance sheet as either an asset or
liability measured at its fair value. SFAS No. 133 requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows a derivative's gains and losses to offset related results on the hedged
item in the income statement and requires that a company formally document,
designate, and assess the effectiveness of transactions that receive hedge
accounting.
SFAS No. 133 is effective for fiscal years beginning after June 15, 1999, and
the Fund plans to adopt its provisions effective July 1, 1999. From time to
time, the Fund enters into interest rate swaps to hedge its interest rate.
Additionally, certain of its investments and long-term borrowings may have
embedded options due to call or put features that would be required to be
accounted for differently under SFAS No. 133 as compared to current accounting
principles. The Fund has not yet quantified the impact of adopting SFAS No. 133
on its financial statements; however, SFAS No. 133 could increase the volatility
of future earnings.
29
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is contained in part under the
caption "Executive Officers of the Fund" in Part I hereof, and the remainder is
contained in the Fund's Proxy Statement for the Annual Meeting of Shareholders
to be held November 11, 1998 ("1998 Proxy Statement") under the caption
"Proposal 2 -- To Elect Eight Directors of the Fund" and is incorporated herein
by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is contained in the Fund's 1998
Proxy Statement under the caption "Proposal 2 -- To Elect Eight Directors of the
Fund" and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is contained in the Fund's 1998
Proxy Statement under the caption "Annex A -- Beneficial Ownership of Fund
Shares" and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is contained in the Fund's 1998
Proxy Statement under the captions: "Other Information -- Management" and is
incorporated herein by reference.
30
<PAGE>
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Index to Financials Statements and Financial Statement Schedules
Report of Independent Public Accountants ......................... 16
Statement of Financial Position as of June 30, 1998 and 1997 ..... 17
Statement of Operations for the Years Ended June 30, 1998 and 1997 18
Statement of Changes in Shareholders' Equity for
the Years Ended June 30, 1998 and 1997 ........................... 19
Statement of Cash Flows for the Years Ended June 30, 1998 and 1997 20
Notes to Financial Statements .................................... 21
Financial Statement Schedules for the Years Ended June 30, 1998 and 1997
included in Item 14(d):
No schedules are required because the required information is not present or not
present in amounts sufficient to require submission of the schedule, or because
the required information is included in the financial statements and the notes
thereto.
Listing of Exhibits
3.1 Articles of Incorporation -- incorporated by reference to the Fund's
Registration Statement on Form 10 filed with the Securities and Exchange
Commission ("Commission") on October 13, 1984.
3.2 By-Laws, as amended to date - incorporated by reference to the Fund's
1997 Form 10K.
3.3 Bank Loan Agreement - incorporated by reference to the Fund's December
31, 1997 Form 10Q
10.1 Management Agreement, dated as of December 22, 1995, between the Fund on
the one hand, and Westech Advisors and Siguler Guff Advisers, on the other hand
- - incorporated by reference to the Fund's 1997 Form 10K.
Reports on Form 8-K
The Fund filed no reports on Form 8-K with the Commission during the
fiscal quarter ended June 30, 1998.
31
<PAGE>
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
VENTURE LENDING & LEASING, INC.
(Registrant)
By: ________________________ By: _________________________________
Ronald W. Swenson Salvador O. Gutierrez
Chairman and Chief Executive Officer President, Chief Financial Officer
and Chief Accounting Officer
Date: September __, 1998 Date: September __, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
NAME TITLE DATE
----------------------- ---------------------- ------------------
_______________________ Director September 28, 1998
John J. Cogan
_______________________ Director September 28, 1998
J. Michael Egan
_______________________ President and Director September 28, 1998
Salvador O. Gutierrez
_______________________ Director September 28, 1998
Scott C. Malpass
_______________________ Director September 28, 1998
Roger V. Smith
_______________________ Director September 28, 1998
Arthur Spinner
_______________________ Chairman and Director September 28, 1998
Ronald W. Swenson
_______________________ Director September 28, 1998
George Von Gehr
32
<PAGE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
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